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Interest Rates, Exchange Rates and International Adjustment

Michael Dooley (), David Folkerts-Landau and Peter Garber

No 11771, NBER Working Papers from National Bureau of Economic Research, Inc

Abstract: In this paper we examine the behavior of interest rates and exchange rates following a variety of shocks to the international monetary system. Our analysis suggests that real interest rates in the US and Europe will remain low relative to historical experience for an extended period but converge slowly toward normal levels. During this adjustment interval, the US absorbs a disproportionate share of world savings. After a substantial initial appreciation of floating currencies relative to the dollar, the dollar and other floating currencies remain constant relative to each other. An improvement in the investment climate in Europe during the adjustment period would generate an immediate depreciation of the euro relative to the dollar. In real terms, the dollar and the floating currencies will eventually have to depreciate relative to the managed currencies. But most of the adjustment in the US trade account will come as US absorption responds to increases in real interest rates.

JEL-codes: F02 F32 F33 (search for similar items in EconPapers)
Date: 2005-11
New Economics Papers: this item is included in nep-cba, nep-fmk, nep-ifn and nep-mon
Note: IFM
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Published as Michael P Dooley & David Folkerts-Landau & Peter Garber, 2006. "Interest rates, exchange rates and international adjustment," Conference Series ; [Proceedings], Federal Reserve Bank of Boston, vol. 51.

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